Edited version of private advice

Authorisation Number: 1052278849971

Date of advice: 22 July 2024

Ruling

Subject: Interest deductions - shares

Question

Are you solely entitled to claim a deduction for the interest expenses incurred on the joint loan amount of $XXX,XXX used to purchase shares that are income producing under section 8-1 of the Income Tax Assessment Act 1997 (ITAA 1997)?

Answer

Yes.

This ruling applies for the following periods:

Year ended XX June 20XX

Year ended XX June 20XX

Year ended XX June 20XX

Year ending XX June 20XX

The scheme commenced on:

XX February 20XX

Relevant facts and circumstances

You and your partner bought your house in 20XX.

You are not married, however are in a de-facto relationship for legal purposes.

You have been living with your partner for XX years.

You own your own home together.

Your Principal Place of Residence (PPOR) loan is jointly held with your partner (de-facto)

You created a split loan for $XXX,XXX and paid it off in full.

You used the split loan to purchase income producing shares that are in your name only to the value of $XXX,XXX.

You have done this as part of a debt recycling strategy popularised by Adviser 1, this is common in Australia due to the tax laws here.

Over the course of 20XX you used this loan to purchase income producing ETFs in your name only.

You have been declaring this income for these assets in your tax returns.

For the past X years, you have been making the PPOR loan repayment and your partner has stayed at home to look after your X children.

Your accountant failed to claim the tax deductions on the split loan interest in the 20XX income year, you have brought this to their attention, however they have advised they are not familiar with debt recycling and would not make a claim without advice from the Australian Taxation Office (ATO).

Your accountant spoke with the ATO in XXX this year and were told only XX% of the deductions could be claimed due to this being a joint loan with your partner.

You have since called the ATO yourself and been advised that the ATO cannot provide legal advice and you require a private ruling.

Relevant legislative provisions

Income Tax assessment Act 1997 Section 8-1

Income Tax assessment Act 1997 Section 6-5

Taxation Ruling 93/32

Taxation ruling 95/25

Taxation Ruling 98/22

Taxation Ruling 2000/2

Taxation Ruling IT 2606

Reasons for decision

Section 8-1 of the ITAA 1997 allows a deduction for all losses and outgoings to the extent to which they are incurred in gaining or producing assessable income except where the outgoings are of a capital, private or domestic nature, or relate to the earning of exempt income or non-assessable non-exempt income.

Paragraph 3 of Taxation Ruling (TR) 95/25 Income tax: deductions for interest under section 8-1 of the Income Tax Assessment Act 1997 following FC of T. Roberts; FC of T v. Smith advises there must be a sufficient connection between the interest, the expense and the activities which produce assessable income. To determine whether the associated interest expenses are deductible, it is necessary to examine the purpose of the borrowing and what the borrowed funds are used for.

The 'use' test, established in the High Court case Federal Commissioner of Taxation v, Munro (1926) 38 CLR 153 (1926) 32 ALR 339 is the basic test for the deductibility of interest, and looks at the purpose of the borrowed funds as the main criterion.

The interest expense must have a sufficient connection with the operations or activities which more directly gain or produce assessable income and not be of a capital, private or domestic nature. The test is one of characterisation and the essential of an expense is a question fact to be determined by reference to all circumstances.

Interest on borrowed funds will not be deductible simply because it can be said to preserve assessable income producing assets.

Therefore, it follows that if a loan is used for investment purposes, such as shares, for which income is received, the interest on the loan will be deductible. However, where a loan relates to private purposes, no deduction is allowed.

Taxation Ruling IT 2606 Income tax: deductibility of interest on moneys drawn down under line of credit and redraw facilities, paragraph 9 advises that as a general rule, interest on money borrowed to acquire shares will be deductible under the first limb of subsection 51(1), where it is expected that dividends or other assessable income will be derived from the investment. Such an expectation will usually exist as shares by their very nature, whether in short or long term. However, such an expectation must be reasonable and not a mere theoretical possibility; there must be a prospect of dividends or other assessable income being received.

Taxation Ruling (TR) 2000/2 Income tax: deductibility of interest on moneys drawn down under line of credit facilities and redraw facilities considers the deductibility of interest incurred by borrowers on money drawn down under a line of credit or redraw facility.

The ruling establishes drawing excess funds from a loan account is treated as new loan. The purpose or use of the drawing is relevant. That is, the deductible portion of interest when further borrowings are made depends on the use the redrawn funds are put to. This is, of course, independent to the purpose of the original borrowing. The redraw facilities referred in TR 2000/2 is where a borrower redraws previous repayments of the loan principal in a loan account.

Paragraph 11 of TR 2000/2 provides a taxpayer may use the money redrawn for income producing purposes, non-income producing purposes or mixed purposes, regardless of the use of the original borrowed funds. Redraws may require the lenders consent and may be subject to other conditions affecting the amount and frequency of redraws.

Application to your circumstances

In your case, You and your de-facto spouse have a loan together which is secured by two properties and has been in place since 20XX.

The original purpose of the loan was to purchase property. You created a split loan of $XXX,XXX and paid this amount off in full. You then used this loan to purchase income producing shares of the same value over the 20XX year. These shares are in your name only.

As you have used the loan funds to acquire income producing shares the interest expense is an allowable deduction. In this case the loan is under both and your partner's name, however as the shares are in your name the interest expense will be a deduction for you in your tax return.

Therefore, you are entitled to claim a deduction for the interest expenses attributable to the loan funds that were used to purchase income producing shares in your tax return under section 8-1 of ITAA 1997.

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